Crude oil prices saw a 13% surge in prices in opening trades on Monday, 16th September 2019, following the drone attack on the oil production facilities of Saudi Arabia. Combined with the significant depreciation in the rupee since the beginning of this year, does this set the stage for inflation to make a comeback? Financial markets reacted to the possibilities of further depreciation of the rupee and higher inflation with both equity and debt markets registering a fall.

The Sensex was down over 150 points and the 10-year G-sec yields saw around 10 basis points increase as bond prices declined. Saugata Bhattacharya, Senior Vice President at Axis Bank believes the price rise is a relatively short-term phenomenon and even if oil marketing companies raised prices in the near term it would eventually revert to current levels. “I do not see a risk of sustained core price inflation from this but it is very difficult to say at this point," he said.

“The Geo-strategic issues however continue to be a problem and if it escalates the impact remains to be seen," he cautioned.

The Consumer Price Index based inflation in India came in at 3.21% in August, 2019. This was the highest level recorded in the previous 10 months. It was still well under the 4% inflation level target of the Reserve Bank of India and this gave the comfort that the policy measures taken by the RBI to kickstart the slowing economy will continue. The Indian economy is the midst of a sharp slowdown with the GDP growth in the April-June, 2019 coming in at just 5%, a six-year low.

The RBI and the government have been battling the slowdown with multiple policy measures, many aimed at transmission of lower policy rates to the real economy and this has translated into lower lending rates to consumers. The RBI has reduced policy repo rates by 110 bps since February, 2019 and with all macro-economic parameters indicating a slowdown at least one more rate cut is expected after the October meeting of the Monetary Policy Committee. Bhattacharya does not see a threat to the expected rate cut on account of the oil price hike.

“Even if the oil price shocks took the headline and core inflation up, there is room to cut rates further. There is still some time to go for the next meeting and the extent of policy rate reduction will depend upon how the situation progresses," he added.